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Published by the CIPS Network of the National Association of REALTORS®
First Quarter 2004
Representing Foreign Investors in U.S. Real Property (Part II)
By Steven L. Cantor, Esq. CIPS, FIPC
Management of Foreign-Owned Rental Property
Before you agree to manage U.S. real property for a foreign client, take care to document whether the foreign client will consider the rental income as effectively connected with a U.S. trade or business. Unless the foreign investor has properly informed the property manager that the rental income is to be treated as "effectively connected income" by submitting to the property manager duplicate executed Internal Revenue Service Forms W-8ECI, the property manager should withhold thirty percent (30%) of the gross rental receipts so as to avoid personal liability. A real property manager who collects rent on behalf of a foreign owner of real property is considered a withholding agent and is personally and primarily liable for any tax that must be withheld. The liability of the withholding agent includes amounts that should have been paid plus interest, penalties, and where applicable, criminal sanctions.
FIRPTA and The Sale of Real Property
Every real property transaction in the United States is now affected by the FIRPTA (the Foreign Investment In Real Property Tax Act Of 1980) withholding requirements, including the foreclosure on mortgages of property owned by nonresident aliens and foreign corporations. The FIRPTA withholding provisions create a presumption that every seller is a foreign person subject to the withholding unless proof is provided to the buyer to the contrary. Any buyer of a U.S. real property interest, and anyone who is required to withhold tax, must file Internal Revenue Service Forms 8288 and 8288-A to report and transmit the amount withheld. According to a recently released Treasury Regulation, these forms must (effective November 2003) contain a taxpayer identification number for the foreign seller. The purchaser or other withholding agent must report and transmit to the Internal Revenue Service the tax withheld by the tenth (10th) day after the date of transfer. There is a penalty of up to US$10,000 over the tax for the willful failure to collect and pay.
FIRPTA requires that a transferee (i.e., the purchaser) of a U.S. real property interest from a foreign seller withhold 10 percent of the "total amount realized," defined as the full sales or contract price, unless one of several exemptions apply. Some of these exemptions include: (1) if the purchaser is to use the real property as a residence and the purchase price is not more than US$300,000; (2) if the transferor (i.e., the seller) obtains a qualifying statement from the Internal Revenue Service that he is either exempt from tax or entitled to a reduced withholding amount, or has provided adequate security for payment of the tax, or has made arrangement with the Internal Revenue Service to pay the tax; and (3) if the seller has furnished a "nonforeign affidavit," certifying that he is a foreign person. The purchaser is directly responsible for withholding the tax, although any attorney or real property professional involved in the transaction, as agents of either purchaser or seller, can be held liable for an amount equal to their compensation from the transaction if they know that the purchaser has been given a false certification or statement claiming an exemption from withholding.
Just because either there has been withholding from the foreign investor or the transaction was exempt from withholding, does not mean the foreign investor has satisfied his income tax liability with respect to the sale. Quite on the contrary-the sale of a U.S. real property interest by a foreign investor is a taxable event calling for the filing of an income tax return at the end of the year. The amount of tax withheld may be insufficient to pay his actual income tax liability; or, because withholding was avoided he must still pay an income tax on any gains actually realized on the sale of the property.
In order to qualify for the "residential use under US$300,000" FIRPTA withholding exemption, at the time of sale the purchaser (or any member of his immediate family) must have definite plans to reside at the property for at least 50% of the number of days that the property is to be used during each of the first two twelve-month periods following the date of sale. So long as the foregoing requirement is met, the property does not need to be the purchaser's primary or principal residence. In our law office we generally require the purchaser to sign an affidavit under penalties of perjury, which contains the language from the relevant Treasury Regulation in order to substantiate qualifying for this FIRPTA withholding exemption.
Part I of this article appeared in the fourth quarter 2003 issue of Global Perspectives.
Steven Cantor's Miami, Florida-based law firm specializes in representing high net worth international clients, handling their tax, estate planning and real estate matters. He was one of the founders of the original CIPS program.
steve@stevencantor.com
www.stevencantor.com
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